We all know building credit is important. But what actually goes into a credit score? Knowing the factors involved in calculating your FICO credit score is the first step to improving your credit score.
FICO (Fair Isaac Corporation) is a “data analytics company”, meaning they’re in the business of analyzing consumer credit data. Your FICO Credit Score is calculated based on a multitude of data points from your credit report.
FICO uses five categories with various levels of importance to calculate your FICO Credit Score. The percentages indicate the relative impact of each category on your credit score.
Payment History (35%)
This category is affected by whether or not you pay your bills on time. A lender doesn’t want to see late payments on any credit accounts, so make sure you pay your bills on time each month. See our guide on how to set up Auto Pay with most major banks to make sure you never miss a payment again.
Amounts Owed/Utilization (30%)
The “Amounts Owed” category, more commonly referred to as “credit utilization”, is influenced by a ratio of how much you are spending versus your total credit line available. This number is usually expressed as a percentage. A generally accepted acceptable credit utilization ratio is 30 percent or less. This means if you have a total credit line of $1000, you should not end the billing cycle with more than $300 due on the card.
Tip to Reduce Utilization: The utilization ratio reported to the credit bureaus is only sent at the end of each billing cycle. If you make payments before the end of the billing cycle, that utilization information will not affect your score. For example, for a $1000 credit line, if $900 were spent and a payment was made mid-month for $600, the credit utilization ratio would still be 30 percent at the end of the billing cycle.
New Credit (10%)
This is probably the most simple category to understand. It is calculated based on how many “hard inquiries” you have on your credit report. You can learn more about the differences between hard and soft credit inquiries here, however the main difference is that hard inquiries affect your credit score, and soft inquiries don’t.
Length of Credit History (15%)
The longer you’ve held open credit accounts, the more your score will increase. When starting out with your first credit card, this will most likely be the largest factor impacting your score. However, just because you have a short length of credit history doesn’t necessarily mean you will automatically have a low FICO credit score. Several “ages of account” are taken into consideration for this category, including the age of your newest account, the age of your oldest account, and the average age among all your credit accounts.
Tip to Increase Length of Credit History: Know a relative or friend with great credit? Have them add you as an “Authorized User” on their credit card, and as they pay their bill month to month your score will increase just for being named on their account. There are many benefits to being an Authorized User on a credit card.
Credit Mix (10%)
The last category taken into account is Credit Mix. This just means that the more diversified your mix of accounts is the higher your FICO score will be. Types of accounts include “credit cards, retail accounts, installment loans, finance company accounts, and mortgage loans”. Although this category is worth 10% of your score, don’t go opening accounts just to increase your credit mix as the negatives definitely outweigh the potential increase in this category.
(Some information gathered from this myFICO article)